Bad news feeds risk assets…

Why else would we have seen such a good rally? It’s not so much the bad news, but more the result of it, that Yellen sought to allay fears of an imminent rate hike. Not that a 25bp hike would have made much difference anyway, but a stay of execution on funding/debt service costs and the world is relieved. We’re therefore living a hand-to-mouth (read month-to-month) like existence as we await whatever slim pickings come our way pre, post and during every FOMC meeting.

US Federal Reserve Chair Janet Yellen

That means that there is absolutely no conviction that we have a recovery in sight, but that we are emboldened and relieved by any macro weakness and uncertainty that give us low rates. Free money isn’t helping. We have the Swiss now contemplating a 13-year maturity zero-percent coupon bond. You could not make it up! Bonds are rapidly becoming pure commodities given they are no longer interest-bearing instruments. Even the 10-year Bund yield saw a record low today, at 0.045%, and as we suggested in Monday’s comment, it will be negative – very, very soon.

We will all look back at this moment in history and shake our heads in disbelief – that’s for sure. In the meantime, there’s no point betting against the continued grind lower in yields/higher govie bond prices. The US, for example, has wrong-footed us a few times already. So in Europe we have no choice but to play into it. Yields might be negative (up to 9 years in Bunds) but capital is appreciating as they fall deeper into the red. That trend is your friend. The real pain will come later, at some as yet undefined period in the future.

The front end and up to 7 years of the Swiss Franc curve yield -80bp or so, and 12-year paper around -18bp. So, as incredible as it sounds, a 0% coupon on a 13-year CHF government bond sounds reasonable (depending on the price at issue). We said several years ago, when this crisis began, that we were in the throes of a Japanification of the “corporate” bond market. The government bond market in Switzerland is there, the Eurozone’s is on the way and the corporate bond market isn’t too far behind either. By Japanifying, we mean yields go lower – but also, and more importantly, that we see less distinction between high and low beta credit. We saw that trade pay off in 2012-2014 before it came unstuck in 2015. With the ECB in play, we think it has been back on for a while. After all, it’s determined to zombify the corporate bond market. Time to add high-beta risk, as yields are set to go lower and potentially fairly rapidly.

We ought to test last year’s 1.02% record low yield set on the Markit iBoxx IG corporate bond index soon enough (1.26% currently).

Primary surprisingly quiet

High yield issues hold court

We drew a blank in supply from the non-financial IG corporate sector – a surprise in itself. That comes after €5bn of issuance on Monday. Instead, the corporate deals came from high yield-rated borrowers in the form of Eircom for an increased €500m and Stora Enso, which took €300m. The rest was a couple of unexciting senior deals from JP Morgan and Sumitomo Mitsui, while covered bonds and SSAs populated the rest of the day’s issuance. Other potential new deals were announced, leaving us with a decent pipeline to look forward to.

We saw none of the cacophony of ECB-inspired supply headlines in the session on the back of those meagre pickings. We certainly don’t think the ECB’s buying of corporate bonds and subsequent expectation of tighter spreads and lower funding costs will necessarily provoke the corporate sector to raise ever more debt to hoard. A few might, but they’ll be exceptions rather than the rule. Lower funding costs for corporates aren’t the issue. Confidence in the macro outlook is what matters.

Risk recovery feels good

Whatever the reason – indifferent macro news flow, the potential for no rate hike in the US, Brexit, Yellen or short-covering amid thin liquidity, we had a good session on Tuesday. Everything was perkier. Stocks were up sharply across the Eurozone and US equities found some good support too, while oil continued its merry rise, with Brent now up at over $51 per barrel. Meteoric! Govies saw life too, with 10-year Bund yields breaking the record low which had stood for over a year.

These are exciting times, 0.045% is the new number and it will go lower soon enough. At the close, yields were just off those record lows at 0.05%. The periphery has done well out of it too, but 5-6bp drops in say BTP and Bono 10-year yields in the session still leave them higher than lows seen previously. Brexit inspired or dragged lower by Bunds, the 10-year Gilt yield dropped a touch to 1.26bp, to just 4bp above its own record low yield (1.22%).

The DAX gained over 1.6% with other bourses up by over 1%. Govies and oil moved up along with them and of course, the corporate bond market wasn’t short of suitors either. Spreads, as measured by the Markit iBoxx IG corporate bond index continue to grind inexorably tighter, now just under B+145bp, while the index yield dropped to 1.24%. It’s not lost on us that total returns for IG corporates have climbed to an impressive 3.4% YTD. In HY, the market was also better and yields on that index fell to 4.47%, or levels not seen since August last year. The index low yield is 3.67% and we are not discounting that we see that level again. HY returns as measure by this index are up at 4.1% year to date.

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Suki Mann

A 25-year veteran of the European corporate bond markets and in his role as Credit Strategist, Dr Mann has been ranked number one in the Euromoney Investor Survey eight times in ten years. Previously with Societe Generale and UBS, he now shares views of events in the corporate bond market exclusively here on Credit Market Daily.